5 ETF Ideas To Ride Out A Correction

Includes: AOK, IEF, SPLV, VQT, XVZ
by: Market Trends Investor

So far this year the stock market is on somewhat of a tear with except for a brief scare on March 6th, nary a meaningful pullback. The pundits keep telling us we can expect some sort 5 to 10% (or more) pullback. Eventually we can expect they will be correct to some extent. But lately it appears Mr. Market is making us wait longer for this no-show correction and will do his best to perhaps continue to lure us into more spirited positions as it keeps flogging the bull for more moves up. When this correction does come, here are 5 ETF ideas to make the bumpy journey down a bit smoother for our portfolios. With these five funds you could be "wrong" or as the pros call it "just early" and the result won't kill your portfolio.

The criteria for this list is no leveraged funds - so that if we're wrong or early, your portfolio won't get killed waiting for the market bloodbaths arrival that may be too late for your time horizon. Most investors have learned the hard way that leveraged inverse funds have daily resets and together with compounding, a healthy decay down if you are wrong or early.

Some of these funds track rather complex indexes but should provide some safety and even some alpha in the event of a correction. I'll start out with the more exotic offerings and progress to the more conventional funds.

VQT Barclays ETN+ VEQTOR S&P 500 Linked ETN. The VQT ETN seeks to match the return of the S&P 500 Dynamic VEQTOR Total Return Index. During normal bull or trend-less markets this fund essentially acts like a plain vanilla S&P 500 index fund with a volatility hedge. When the market gets turbulent and the VIX spikes, this fund dynamically allocates between Equity (S&P 500), VIX futures, and Cash. The VIX allocation will dynamically increase when there is a marked uptrend for the VIX. This uptrend is calculated by an algorithm that includes 5 and 20 day moving average trend for the implied VIX. This fund also has an internal Stop Loss trigger that allocates the entire note to Cash if there is a 2% loss or more for it's Index in any 5 consecutive business day period. It's sounds a bit complicated but seems well thought out. This ETN enjoyed a 16% return in 2011's flat market.

XVZ iPath S&P 500 Dynamic VIX ETN. The XVZ ETN is linked to the performance of the S&P 500 Dynamic VIX Futures Index. This is a rather complex fund that dynamically allocates between the Short Term VIX futures and the 3 Month VXV futures. The short end VIX futures are more sensitive to market movements. The other portion, the VIX 3 month Futures Index VXV are not as sensitive to market movements. The percentage ratio between these two constituent indexes will determine the allocation. Succinctly, during market up trends and bull markets the ETN will be long 70% the 3 Month VXV Futures and short (-30%) the short term VIX futures. At market upheavals with volatility rising, the short term portion will dynamically allocate towards zero to an eventual net positive allocation. So, during a bona-fide correction this fund should do nicely with the short term VIX spiking. When things are "normal" with an up trending market this fund will have some short allocation for the short term VIX futures, thereby attempting to minimize the roll yield losses due to contango in the VIX futures curve. I caution that this fund is relatively new but after back-testing its Index, this ETN should perform flattish to very slightly down in bull markets, depending on the VIX futures curve. During real corrections and bear markets this fund should perform very, very nicely. If you are early or wrong in anticipating a correction and the market keeps marching upward, this ETN minimizes much of the downside erosion due to its partial short postion.

SPLV PowerShares S&P 500 Low Volatility Portfolio ETF. With over a billion in assets, the SPLV ETF sure has been a hit with investors. This ETF holdings include sectors that are traditionally safe havens in times of market stress. From the PowerShares website the sector makeup includes about 30% in Utilities, 29% or so in Consumer Staples and 13% in Health Care. Not exactly the hot rocket sectors, but that's the point. This fund seeks to achieve low volatility and safety. It also pays out about 3% in dividend yield. For those that still feel sick from some of the market roller-coasters the last few years, this ETF should smooth out some of the the dips for the next market correction and associated drama.

AOK iShares S&P Conservative Allocation ETF. If your feeling especially squeamish about the market prospects and feeling gloomy, this very conservative ETF from iShares may fit the bill. It's an asset allocation model with a cornucopia of conservative sector holdings. These include of course bonds and some equity index funds. The latest iShares information for allocation has over 73% in diversified fixed income, 16% in domestic equity and around 10% in International equity. That large allocation to fixed income provides a healthy ballast for smoothing out rocky stock market periods. It also yields about 2.25% to help cushion the bumps. This fund may be a nice parking spot if your expecting this bull market to run out of steam, and it won't kill your portfolio if you're early or wrong.

IEF iShares Barclays 7-10 Year Treasury Bond ETF. When the going gets rough the risk adverse go to bonds (or cash). This is not exotic or unknown by any means, but it is what it is during market melt-downs. Safety, declining yields, and price appreciation is what you will get when seeking the safety of US bond funds. You could get greedy and go out to the more sensitive longer maturity TLT 30 year ETF, but this ETF's maturity makeup is a comfortable compromise which will perform with be a bit less volatility during any counter trend turbulence in a correction.

Keep Risks Current and in Context:

Be wary the type of current market risks (perspective) in your investing horizon. If the market risks (like now) are geo-politcal, economic slowdown fears, potential international debt blow ups,etc.; then the funds described above that have US bond holdings will do okay. If a different market risk comes along some day such as rising interest rates due to Fed policy change or imminent tax increases from tax law changes, you may not (at least in the short term) want to go anywhere near bonds or equity yielding funds.

Disclosure: I am long VQT, XVZ.

Disclaimer: This author is not an investment adviser and the opinions expressed are soley his own. This article is not to be construed as investing advice.